The Sarbanes-Oxley law of 2002 was hastily enacted in reaction to the highly publicized bankruptcies of Enron and WorldCom. Confirming the proverb that haste makes waste, the remedies adopted had no connection to the causes of those financial crises. Sarbanes-Oxley was almost entirely concerned with strictly enforcing the latest "generally accepted" accounting principles (GAAP). But bankruptcies are real events, not simply a matter of the way records are kept. Deceptive accounting by companies attempting to conceal their troubles was a consequence of financial crisis, rather than the cause.

 What troubled the public about Enron and WorldCom was not devious accounting per se, but the fact that these big businesses suddenly contracted or failed, injuring many workers and pensioners.

 Bankruptcies and accounting scandals are distinct events. Most big corporate bankruptcies in the wake of the 2001 recession (such as Bethlehem Steel, K-Mart, PSI Net and W.R. Grace) had nothing to do with accounting scandals. Most accusations of accounting scandal (at Tyco, Xerox, Rite Aid and AOL) had nothing to do with bankruptcy.

 The bookkeeping obsession of Sarbanes-Oxley might nonetheless be defended as helpful to stockholders were it not for the fact that investors saw through Enron and WorldCom's exaggerated earnings and hidden debts long before accountants or federal regulators did.

 The stock market shoved WorldCom stock below a dollar long before any accounting scandal was revealed; Enron stock fell 61 percent before that story broke. Besides, Sarbanes-Oxley wisely contemplates discarding the same whimsical, indecipherable GAAP accounting rules it so sternly sanctified. Section 108(d) required the Securities and Exchange Commission to submit a study on "the length of time required for change from a rules-based to a principles-based financial reporting system" of the sensible sort used in Europe.

 Sarbanes-Oxley also required that the audit committee of every corporate board be comprised entirely of independent directors with no company experience, plus one financial expert who claims to grasp all 4,500 pages of GAAP. This "reform" likewise bore no relationship to the Enron scandal. The Enron board was 86 percent independent, chaired by a Stanford accounting professor and rated among the nation's five best by Chief Executive magazine.

 Although overpriced consultants and overvalued corporate activists invariably rank board "independence" among their favorite formulas for corporate governance, there is no evidence it works. A Hewitt table in Forbes last October awarded Warren Buffet's Berkshire Hathaway a "D" grade for corporate governance (the Berkshire board includes too many people who know the business), while giving Fannie Mae an "A" grade. Yet Fannie Mae has lately been plagued with charges of massive accounting trickery.

 Nearly half the pages of Sarbanes-Oxley were devoted to creating a new Public Company Accounting Oversight Board to do what the SEC already had the authority and responsibility to do. The novelty is that, unlike the SEC, this uniquely well-paid board must be dominated by people with no expertise in accounting. The only clear result, documented by The Washington Post in August 2003, has been that many overburdened mid-sized accounting firms simply stopped auditing public companies.

 Section 302(a) of Sarbanes-Oxley manages to worsen a dubious certification ritual the SEC had already put in place. Prison sentences of up to 20 years were enacted for executives who "willfully" certify incorrectly that corporate reports have "fairly" presented financial conditions and results. This put CEOs in the position of nervous auditors -- a job few CEOs are qualified to do -- rather than general managers who delegate such specialized chores to experts.

 Jeffrey Garten, dean of Yale's School of Management, predicted that "CEO's are going to become more risk-averse and big investments on risky projects are going to be held back."

 Aside from inducing economic paralysis through CEO timidity, the certification provision's only concrete result has been to greatly increase the cost of director and officer liability insurance. Shortly after the law took effect, The Economist reported that "D&O premiums have risen as much as seven-fold" in tech, telecom, energy and finance.

 One of the unintended consequences of making executives and directors more vulnerable to personal lawsuits and imprisonment has been difficulty in recruiting qualified people and (ironically) higher pay required to entice anyone to take on the added risk. A Burson-Marsteller survey found that 54 percent of senior officers said they would refuse a promotion to CEO in 2002 (twice as many as the year before), even as 73 percent of CEOs said they were contemplating quitting. A study of Fortune 1000 firms by Axentis LLC found that compensation of outside directors jumped from $40,000 to $100,000. A study of mid-sized firms by Foley & Lardner also found that directors' fees doubled after Sarbanes-Oxley, as did accounting, audit and legal fees. Continued...